Seller Financing Why & Why Not to offer it in Selling your Business

Given the serious tightening of lending criteria, we’re back to the good ‘ol days of using seller financing to sell businesses again.

So, what are the things you should consider in deciding whether or not to offer seller financing?

(A) Why you shouldn’t offer seller financing:

1. You need all of the money upfront
2. You have to payoff business debts
3. You are concerned you won’t get paid back

(B) Reasons you should offer seller financing:

1. Make buyers feel the business offering is credible & that you believe in it as the owner
2. Find qualified buyers faster
3. Free up Working Capital for the buyer
4. Get a greater return on the sale with interest payments and a higher price
5. Sell the business faster by avoiding Bank Loan Red Tape and interminable delays

Let’s address the concerns raised working against offering to carry a seller note for a buyer.

(A-1) You need or want all of the money upfront?

Well, this is an issue that is somewhat out of your hands, as buyers will pay what market price is for the business, not just what you want to have.  The way you can avoid this is with a properly executed exit strategy plan.  Depending on the form of ownership of the business (LLC, Corporation, Partnership, Sole Proprietor etc.) there are ways to set up your personal finances, retirement savings and income along with your business so that you are not dependent on the cash received for the sale of your business.  If you are in the position that you need all cash when you sell your business you will have to be prepared to wait it out for a cash buyer, and likely that cash buyer will negotiate the price down to get what he/she feels is a fair ‘cash discount.’

(A-2) You have to pay off business debts?

Well, there is a way around this.  Provided you can get cooperation from your debt holders, you can assign the debt to the buyer, who would then deduct that debt from the purchase price.  This doesn’t affect your yield of cash at the close of escrow, because you would have used the extra cash to pay off the debt.  Instead, one or more third party vendors have extended credit to your buyer, and they are ‘financing your buyer’ instead of you.  Some caveats here, be prepared for resistance from your creditors, as they will prefer to be paid off.  To help convince your creditors that your buyer is creditworthy, you may have to guarantee the debt yourself.  This way you remain on the hook for repayments should your buyer default.  This is the downside, but one you can minimize by selling to qualified buyers and offering proper seller training.

(A-3) You are concerned that you will not be paid back in full.

This is a real risk as in most cases businesses aren’t loaded with strong collateral.  The ways to minimize this are to sell to a qualified and skilled buyer  and to be accessible to guide and advise your buyer when called upon.  You can write in to seller notes conditions upon which you are able to monitor the business, for example by requiring that you are provided financial statements on a monthly basis or other regular interval.  If the financials aren’t up to par, you can write in clauses to accelerate the note to make it due immediately, or even allow you to take over the business to get it back into compliance with the parameters specified in the Seller Note.  This of course assumes that you are available and interested to help the business and the buyer be compliant.

Let’s address the reasons that you should offer and even carry back seller paper.

(B-1 & B-2) Make the Sale Offer Credible to Find Qualified Buyers Faster

Offering a seller note is your chance as a seller to give the business a vote of confidence that carries a lot of weight with potential buyers that are looking at different businesses to buy.    Buyers will assume that if you are not offering a seller note then there may be something wrong with the business, and you are going to take off to some faraway tropical paradise where you won’t be able to be found.  They will keep looking for other businesses if they think you are going to take the money and run.   By offering the seller note, you will attract more buyers, which will yield more qualified buyers.   Qualified buyers will have better credit history and be in a better cash position to purchase and operate the business.

(B-3) Free Up Working Capital for the Buyer

Working capital is the natural follow up to attracting qualified buyers.   Business savvy buyers who will succeed with your business will make sure to have sufficient Working Capital.   Remember, a buyer who succeeds increases the likelihood of your note being paid in full and being on time.  A buyer who takes over your business short on capital is likely to get behind on making payments to not only you if you carried a note, but perhaps the landlord and vendors.  When vendors and landlords aren’t getting paid on time, it puts the business at risk, which is not good for you in any way, it jeopardizes the rest of your note, or gives the buyer a reason to take legal action to recover some money from you.  Think of a seller note as preventive medicine for selling your business.

(B-4) Get a greater return on the sale with interest payments and a higher price

Offering seller financing helps achieve a higher sales price for the business, because a few reasons including increasing the amount of qualified buyers.  If you are limiting yourself to only working with ‘all cash’ buyers, then you are artificially shrinking your buyer pool, and ‘cash buyers’ know it.  They know the ‘Golden Rule’: He who has the gold creates the rules!  Fewer qualified buyers creates downward pressure on pricing.  Also, offering seller financing helps buyers to perceive the business as strong and healthy, which again attracts more buyer interest, which creates upward pressure on pricing.

Also, by are charging interest on the seller note, you are making additional income on the sale in the form of interest income.  Interest rates justified and charged on seller notes can be a point or two above the Prime Rate or more.

(B-5) Sell the business faster by avoiding Bank Loan Red Tape and interminable delays

Current bank lending conditions are set at ‘Tight’ and ‘Extremely Risk Averse.’   This means that the time frame of closing the sale of a business with a bank loan is fraught with incredible amounts of uncertainty and interminable delays.  Can you imagine not knowing when your business escrow will close?  With business acquisition bank loans there are going to be numerous delays where the bank representatives will stall by asking for more and more paperwork to clarify ‘this or that’ little item.  What that really is, is a sign that the bank underwriting committee doesn’t really want to do the loan and the bank representative you are working is grasping at straws.  Forgo all of this and offer the seller note to guarantee a closing date on YOUR schedule.

Never let a transaction take longer than necessary, as Murphy’s Law means that there will always be other problems that pop up and increase the likelihood that your transaction will fall apart for one reason or the other.   Given that there is a high likelihood that there will be delays with your transaction, there is even greater likelihood that they won’t ever even fund the loan.  So there you are, your escrow has been delayed for six weeks while you are asked for one more document week after week like Chinese Water Torture, and then you finally get the ‘no’ answer, how are you, your buyer and the transaction feeling?  Frustrated, upset?  Those two emotions are big deal killers.  Save yourself the uncertainty and aggravation and sell with a Seller Note.

For More information on how Just Elementary, Inc, Commercial Business brokers can help you with Exit Strategy Planning, contact our Client Care Manager, Sonia Chhabra, (888) 926-9193 or email cs@justelementary.com